Australia is moving into a debate on how to ensure superannuation fund members can make pain-free transitions from saving to drawing a retirement income. But we are in something of an information vacuum on how other countries are approaching the same challenge.

We are no longer unique in the world with a compulsory superannuation system: within the Organisation for Economic Co-operation and Development, Hungary, Mexico, Poland, the Slovak Republic and Sweden all have mandatory systems, while outside the OECD, Chile, Colombia, Estonia, Israel and Russia have taken a similar approach.

But many of these systems also have age-based limits on the level of equity investments of members – in effect, a government-mandated lifestyle investment approach to derisk portfolios of older members.

The details emerge in a paper from US-owned fund manager Pimco that repeats the argument for lowering investment in risky assets as super fund members approach retirement and moving to fixed income products (which are a Pimco speciality).

We mostly follow the UK and US retirement saving models. In both those countries, through a combination of regulation and widespread industry acceptance, the majority of default funds involve target date or lifestyle investment strategies. (These adjust the asset mix away from riskier equities as members grow older or near retirement.)

Australian super funds have been loath to move to such an approach, partly because the first such US products did not perform well in the recent crisis and partly because trustees have been waiting for a nod of approval from the prudential regulator.

But lifestyle funds are on the agenda after the Cooper and Costello reports and Pimco’s John Wilson expects to see their number increase significantly once the Australian Prudential Regulation Authority develops guidance on the strategies.

In the meantime, super funds have been facing an exodus of money as older or nervous fund members have taken derisking into their own hands. In many cases, this has seen members moving their balances into self-managed funds and often into low-risk cash or term deposits.

In other cases, fund members have used investment choice to switch from growth-oriented strategies into more conservative approaches. This also saw some people miss the recovery in sharemarkets in 2009 and would also have left some sidelined from the recent equity market rally.

Among the OECD countries with compulsory super that give investment choice, only Australia and Sweden don’t apply some rules on the level of equity holdings. Hungary, Mexico and the Slovak Republic all have regulations limiting the level of equities members can hold relative to their age; Poland’s system offers no funds choice to members.

Chile, whose sophisticated system emerged in line with Australia’s, has prescribed limits on equities both for savers and pensioners. Estonia has similar age-related limits; Colombia, Israel and Russia don’t allow investment choice.

The debate over adopting lifestyle strategies – should there be guidelines; should they be compulsory? – will essentially be an initial, formal attempt to deal with risk through the funds’ asset mix. But there are other developments which may take the super industry into more sophisticated approaches, tailored to individual members’ needs.

Wilson notes that switching to low-risk assets can reduce members’ risk but it comes at a cost – giving up significant potential gains from more aggressive investment strategies. This can be offset by determining the asset mix with an eye on amassing assets which produce a required internal rate of return (which is tied to the desired level of spending in retirement).

While the debate continues here, the process of reducing risk in portfolios involves a mixture of self-directed adjustments by more aware members (via investment choice or a self-managed fund) and only the occasional use of a limited number lifestyle funds.

But it is important we get right any models for default lifestyle funds. Most fund members in Australia have largely blindly adopted existing default strategies while US fund members, whose default settings have been largely changed from cash or near cash to a lifestyle approach, also largely accepted this, sheep-like, without query or complaint.

bdunstan@afr.com.au

The Australian Financial Review

BY Barrie Dunstan

Barrie Dunstan is one of Australia's most experienced
business and investment journalists. He has been an associate editor
and columnist with The Australian Financial review AFR since 1987 and
specialises in superannuation and funds management. He also writes on
personal investment and has published three books for investors.

BY Barrie Dunstan

Barrie Dunstan is one of Australia's most experienced
business and investment journalists. He has been an associate editor
and columnist with The Australian Financial review AFR since 1987 and
specialises in superannuation and funds management. He also writes on
personal investment and has published three books for investors.